Relying on low, long-term oil prices isn’t prudent policy

In a recent blog, Christophe Courchesne of the Conservation Law Foundation describes the recent drop in wholesale power prices as reason why the region does not need expansion of natural gas pipelines. The final sentence of his article thoughtfully begins, “In a market that can turn on a dime.” And that is really what is at issue—our market can turn on a dime, and these seemingly low prices may not be long lived.

While the volatility of wholesale prices this winter has been significantly less than last year, it is not primarily due to the actions stated by Courchesne: pricing reforms and LNG. New England is seeing the benefit of surplus supply in the oil markets which has effectively put a “lid” on the cost of delivered natural gas and LNG. It is the impact of oil prices that has altered the winter wholesale electricity market in New England.

As happened last winter, heating requirements occupy much of the natural gas capacity into the region. Colder weather increases demand for natural gas and during extreme periods dramatically increases its cost. The fallback for electricity generation is typically oil. Last year oil was more than $100 per barrel, so a switch to oil for generation caused large price spikes. This year oil has been as low as $50 per barrel. Not only is the fallback fuel much cheaper, which leads to lower wholesale prices, but in fact oil has become much more than the fallback. It may be economic for dual fuel generators to burn oil more regularly. (Although specific data on this is difficult to determine because ISO NE categorizes the dual fuel generators only as gas.)

If oil could remain at $50 per barrel or less, then maybe natural gas pipeline capacity expansion wouldn’t be necessary (and maybe we would also be seeing increased environmental arguments against higher greenhouse gas emitting oil electricity generation again). But if oil pricing is anything, it’s a volatile, geopolitically charged commodity, and as quickly as it went to $50 per barrel it could be back at $100 per barrel or more. This is the reality that the New England States must deal with in solving the infrastructure expansion issues. Relying on low, long-term oil prices isn’t prudent policy. Once oil prices increase, the New England energy markets will turn on a dime.

Unfortunately the unwinding of the oil surplus is already underway. Baker Hughes reports each week on the number of drilling rigs searching for oil in North America. In the week of November 26th there were 1,572 rigs. In Baker Hughes February 6th report there were only 1,140—a 27% drop. And the $50 per barrel price of oil is now more like $60. Long story short, the oil bubble and the lower prices it has created are likely to disappear, and New England will very likely find itself back in a natural gas pipeline constrained market once again. The temporary gift New England has received from the oil surplus should not divert the focus of policy makers away from expediently pushing additional natural gas pipeline capacity forward.